Bank of America sorts out a role for mortgages

Bank of America was an exception to the rule in the third quarter – it funded more mortgages than it did a year ago. Good news, right? So why did mortgage banking income fall so much, and the bank warn that it will cut jobs and other expenses in the unit?

There are a few reasons, most of them systemic to the banking industry. Here’s a look.

But Bank of America’s mortgage banking income plunged 71%, to $585 million from more than $2 billion a year ago.

Rising interest rates played a big role. Obviously, they dampened demand for refinancings. But they also hurt the banks’ margins. When a bank agrees to make a mortgage loan, the interest rate is locked in — known, creatively, as a “rate lock” — and then there’s a lag time until the mortgage actually closes. When a bank locks in a mortgage at, say, 3.5%, and then rates rise to 4% before the mortgage close, then there’s less profit to be made when the bank turns around to sell the loan.

It’s also worth noting that most of Bank of America’s mortgage activity is coming from refinancings, rather than new home loans. It’s a pattern that’s been common to the industry in an era of super-low rates. But for a bank, refinancing a mortgage is not as profitable as making a new one.

*There are legal expenses. CEO Brian Moynihan has taken the tactic of settling mortgage-related accusations and lawsuits early and often, which has been expensive but has also allowed the bank to move past many problems more quickly than some peers. But the bank continues to set aside money for potential mortgage repurchase demands. And in the Legacy Assets and Servicing division, which deals with problem loans left over from the financial crisis, litigation expenses were down over the year but up over the quarter.

*The mortgage making won’t last forever. In a call with analysts, chief financial officer Bruce Thompson warned that the steady rhythm of mortgage originations wouldn’t continue. He noted that the bank’s mortgage originations were down when compared to the second quarter, and that the pipeline of mortgage applications was down 59% over that period. Servicing fees were also down, both over the year and over the quarter. (An exception was home equity loans — a smaller unit, but its loan originations nearly doubled over the year and were also up over the quarter.)

Thompson said the bank would cut mortgage jobs and other expenses to get out ahead of the mortgage slowdown. He also noted that the bank is cutting jobs in the Legacy Assets and Servicing unit, which is bad for employees but a good sign for shareholders, as it signals there are fewer bad loans to deal with. That unit has 32,200 employees, making up 13% of the total workforce. A year ago it was at 58,200 employees, or 21% of the total.

The bank is also focused on getting rid of mortgage loans that are delinquent by two months or more, as another way to cut expenses. The bank now has about 400,000 such loans in the Legacy Assets and Servicing division, down from 900,000 a year ago. Some it sold to other servicers, some it charged off when it decided the loans were beyond rescuing, and some it modified so that borrowers started paying again.

*The history and the future. Mortgages have been both a medal of honor and a scourge in Bank of America’s recent past. Its 2008 purchase of Countrywide, a California mortgage lender known for making unconventional loans to borrowers with weak credit, was hailed as a coup but soon turned into an albatross. Countrywide has brought the bank quarterly losses, risky loans, government investigations and lawsuits.

So when Moynihan became CEO in 2010, he started slashing the mortgage unit. Notably, the bank got rid of mortgage loans made by third parties, which make up a big chunk of the mortgage revenue at J.P. Morgan and Wells Fargo.

Then, earlier this year, Bank of America made moves to reclaim more of the space on the mortgage scene. It put more mortgage officers in the branches, pushed to close loans more quickly and churned out ads targeted at existing customers.

But that was when the mortgage boom was still booming. And in a call with reporters Wednesday, Thompson was asked, basically, if the mortgage unit had outlived its usefulness.

Mortgages are something that customers want, Thompson replied, and “Mortgage is a business that we’re going to be in.”

“If we do the mortgage,” he added, “then they’ll want to do other business with us.”

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